Let’s look at what the federal pension tax credit is all about. What kind of tax rate applies?
The government allows you to claim a federal non-refundable tax credit up to 15% of the first $2,000 of pension income.
What does that mean?
Let’s break it down.
What qualifies as pension income? Anything that qualifies for income splitting would be eligible.
- RRIF payments.
- Defined benefit plan payments
Does not include:
In respect to the RRSP withdrawals, if you’re taking RRSP income, you cannot elect to get the credit and you cannot split that either as we’ve covered in another video.
You want to take advantage of this credit if you have no other pension income.
Let’s say you’ve worked and saved money your whole life through your RRSP and not through a defined benefit pension, which means you have no pension income. All you have is the RRSP and your wealth that you’ve accumulated through your TFSA, your non-registered accounts and your RRSP.
You actually need to convert that RRSP to a RRIF and draw down on it in order to be eligible for the credit.
How much is the credit worth?
The credit is worth only 15% of the first $2,000. It’s actually worth $300 a year per year for up to six years. The reason I say six years is you can take it when you’re 65 and up to 71, because at 71, you’re converting your RRSP to a RRIF anyways.
The question then becomes, do I convert my RRSP to a RRIF just to take advantage of this $300 credit every year?
If you have no other defined benefit or defined pension income, then the answer to that question is effectively a simple one, but it could be complex for others. You need to ask yourself. how much is $300 worth to you relative to the savings you’re going to get?
It’s a $300 savings relative to the cost that you’re going to have by converting your RRSP to a RRIF. If you’re converting your RRSP to a RRIF, what is that costing you? You now have to draw down 5% and that 5% is being added to your income, which is now being taxed.
You would want to use this as an option when you’re needing to draw down the income and you’re converting it to a RRIF. If you’ve already converted to a RRIF, make sure to talk to your accountant about optimizing this and make sure you’re claiming this $2,000 credit and remember folks, this is not a marginal tax credit. It’s only 15% of the first $2000 so you’re not getting your full marginal tax savings on this amount. If you’re in a top tax bracket, you’re not getting $1,000 out of that $2000.
If you want to discuss the pension tax credit with Rob, please go to speaktorob.com, we’d love to chat further on this topic.
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